We are firmly in earnings season and the market keeps getting disappointed.
Don’t look at earnings because they are heavily pumped up by the Trump tax change. And by a weak dollar.
What you should really focus on this earnings season is revenue growth.
Consider Google. Google crushed earnings because of the Trump tax change. Their revenues grew 23% (after FX issues). It beat expectations but was inline with what they’ve been doing for a few years.
But Google had to spend a ton to get those users (traffic acquisition costs surged 40%+). That’s why the market dinged them. In fact, Google’s stock price hasn’t moved in 6 months.
The market is suddenly discovering valuations. Google has a forward P/E of 35. But expected growth is ~20%. So they have a pretty big premium baked into their price. And that’s including the surprise jump in earnings per share (EPS) from its tax benefits.
In fact, many tech stocks are trading with quite lofty valuations. The cost of capital is set to rise a lot faster this year (if they need to refinance their current debt. Or issue new debt). Hence the sell-off.
If we are finally returning to fundamentals… then the market needs to drop another 1% to be “fairly valued.” If the S&P falls below 2600, I might be a buyer.
A lot depends on the macroeconomic data coming out. The key concern is inflation. Too much and the Fed may hike rates more frequently. That would really spook the market. Be sure to keep an eye on inflation data coming out. It’s the metric the Fed’s look at.
On a separate note, we are seeing the volatility (just as I predicted a few months ago):
- Valuations: Stocks have to compete with bonds, which are becoming more valuable (as its yields rise). Plus higher interest rates squeeze margins, adding more stress to valuations.
- Rate hikes: The Fed is raising rates. That will slow the economy. It will slow housing. Buckle yourself in.
If you like options, this is definitely a time to play the game. Buying the VIX would also be a good play today.
Editor of Moneyball Economics